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By The Numbers: Profitable Stocks With Reasonable Valuations And Rising Earnings Expectations

Summary

  • No quantitative system is perfect or infallible, but the evidence shows that companies exhibiting strong quantitative attributes tend to outperform over the long term.
  • Introducing a quantitative system focused on companies with elevated profitability, reasonable valuations, and rising earnings expectations.
  • Backtested performance does not guarantee future returns, but the performance numbers are quite attractive for this particular system.

Investing is always a matter of probabilities as opposed to certainties. There is no way to tell for certain how a specific asset or an investment strategy is going to perform in a particular period. On the other hand, statistical data shows that companies offering some specific quantitative attributes tend to outperform the markets in the long term.

The following system is aimed at investing in highly profitable companies trading for a reasonable valuation, and generating rising earnings expectations.

Even if the formula is not perfect or infalible, there are solid reasons to believe that companies exhibiting these characteristics should do better than average over the long term.

System Design

The main idea behind this system is not to offer the most comprehensive approach to quantitative stock picking. Quite on the contrary, the point is showing how you can build a simple and straightforward system that still produces attractive returns by relying on well-known performance drivers.

To begin with, we exclude over the counter stocks from the universe to guarantee a minimum liquidity level and size.

Companies in the portfolio also need to have a return on investment - ROI - ratio above 20% on a trailing twelve months basis. This is a demanding threshold when it comes to profitability, so the system only includes companies that enjoy profitability levels substantially above average.

Since the bar for profitability is set quite high, the screen has a more relaxed specification when it comes to valuation. It's not realistic to look for companies with spectacular profitability and bargain-low valuations at the same time.

Companies in the portfolio need to have a forward price to earnings ratio below 25. This valuation level does not guarantee that stocks are necessarily undervalued, but the system still puts a reasonable limit on valuation in order to avoid stocks

Members in The Data Driven Investor have access to quantitative systems to pick stocks and ETFs with the potential to outperform the market in the long term. In addition, the service offers multiple strategies to protect your portfolio in bear markets, and members know in real time when I make a buy or sell decision for my personal portfolio. A free trial is available now in this link.

This article was written by

Andres Cardenal, CFA profile picture
35.39K Followers
Proven strategies for superior returns and active risk management
Andrés Cardenal, CFA. Economist, financial analyst, columnist. Naturally flavored.

Analyst’s Disclosure: I am/we are long MU, SPGI. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Seeking Alpha's Disclosure: Past performance is no guarantee of future results. No recommendation or advice is being given as to whether any investment is suitable for a particular investor. Any views or opinions expressed above may not reflect those of Seeking Alpha as a whole. Seeking Alpha is not a licensed securities dealer, broker or US investment adviser or investment bank. Our analysts are third party authors that include both professional investors and individual investors who may not be licensed or certified by any institute or regulatory body.

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